Perfect Competition

Topics: Supply and demand, Economics, Externality Pages: 4 (1441 words) Published: January 15, 2012
Competition in the market can be either perfect or imperfect. The classical economists assumed the existence of perfect competition, and all their analysis is based on this assumption. It has been pointed out that the real world is full of imperfect competition. Perfect competition or Competitive market is a market with many buyers and sellers trading identical products so that each buyer and seller is a price taker. Competitive market is characterized with:

1.There are large numbers of buyers and sellers in the market. 2.Perfect knowledge of the product is another important characteristic which says that all the buyers and sellers have complete knowledge about the products 3.Free entry and exit: firms are free to move in and out from the industry without any kind of barriers 4.The products are homogenous: all the firms in the market sell homogenous products 5.No cost of transportation: under perfect competition, it is assumed that the cost of transportation does not exist for carrying goods from one place to another. 6.The most significant feature of perfect competition is the existence of an automatic price mechanism. Price of a product is determined by the interaction of total demand and total supply in the market. Since there are many sellers and buyers, no individual seller or a buyer can fix or influence the price.

Under perfect competition, the number of firms in the industry is very large. Each firm is very small in size. A single firm action does not affect the market supply. Thus, each firm is a price taker under perfect competition. The price is determined in the market and every firm has to accept this price. The market demand curve and the individual demand curve of firms in competitive industry are price elastic and thus horizontal to the x axis (see figure 1). Thus the average revenue curve and the marginal revenue curve are same. Figure 1

The market supply curve of a...

References: Mankiw, NG (2004) Principles of Economics 3rd Ed, Thomson South Western, United States. Thomson south-western Publishers.
Pindyck and Rubinfeld (2005), Microeconomics 6th Ed, Prentice Hall, United States
Brenanke and Frank (2007) Principles of economics 3rd Ed McGraw-Hill
Hirschey, Mark (2007) Economics for Managers 1st Ed South-Western Publisher, United States.
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